Market Briefing - Powelling at the Moon
- The Federal Reserve raised rates by three quarters of a percentage point yesterday, but markets were well prepared after Monday’s media leaks, and initial reaction was muted.
- During the press conference, Jerome Powell said additional increases of the same magnitude would not be “common”, lowering odds on a similar-sized move at the July meeting. When the dust settled, the dollar was down almost 1 percent, and ten-year Treasury yields had lost 15 basis points.
- Perhaps most interestingly, Mr. Powell said, “Core inflation is something we think about because it is a better predictor of future inflation, but headline inflation is what people experience”. To us, this suggests the central bank is now engaged in a form of psychological warfare, moving away from purely quantitative price benchmarks - like the personal consumption expenditures index - toward targeting inflation measures that are considered likely to influence consumer expectations. For market participants, sentiment surveys could assume the same importance as non-farm payrolls reports on the economic calendar.
- Market sentiment is now worsening, with risk-sensitive currencies weakening and equity futures pointing to a drop at the open. Investors may be hedging against rising downturn risks, with the Fed’s “soft landing” scenario looking increasingly difficult to achieve.
- The Atlanta Fed’s GDPNow forecasting model dropped to zero in the second quarter, suggesting that the economy could be flirting with recession in the months ahead.
- The Bank of England opted to increase rates by 25 basis points, with three officials dissenting in favour of a larger hike. The central bank appeared to acknowledge the idiosyncratic results of the Brexit process, noting that prices are increasing more quickly than in other regions. The Bank now expects inflation, already at a 40-year high, to hit 11 percent in October, with rising energy costs doing the heavy lifting. Gilts dropped, and the pound slipped closer to the 1.20 level against the dollar - a round number threshold, which, if broken, could open up further downside.
- The euro is weaker after yesterday’s emergency meeting at the European Central Bank failed to deliver anything substantive. Market participants expect policymakers to create a new anti-fragmentation instrument similar to the previously-deployed European Stabilization Mechanism and Outright Monetary Transactions scheme - programmes that struggled to overcome stringent conditionality requirements. Peripheral yields remain elevated.
- The Swiss National Bank preempted the ECB, lifting its deposit rate by 50 basis points, to -0.25 percent. The franc jumped on the announcement.
- Brazil’s central bank raised interest rates 50 basis points to 13.25 percent, signaling its next hike would be “of the same, or lower magnitude”. This was broadly as markets expected, meaning that the real will likely continue reacting to volatility in US fixed income markets. With a sizeable yield-pickup and commodity prices bolstering Brazil’s trade balance, the real could be a big beneficiary of any renewed market calm.
- Australia created more jobs than expected in May, lifting market-implied odds on another 50 basis point hike in July. The currency also gained as the Fair Work Commission said it would increase minimum wages by 5.2 percent - a move that should benefit the economy, but which will also put upward pressure on inflation.
- Tomorrow’s Bank of Japan meeting looms as the next potential volatility catalyst. Major policy changes remain unlikely, but Governor Kuroda could express openness to modifying the yield curve control framework that has kept the global cost of money under pressure for years. The impact could be profound.
- Jerome Powell is due to make opening remarks at a conference on the greenback's global role tomorrow. The event will be interesting for academics, but is also likely to launch thousands of bad takes in the financial media, with many observers claiming the currency is poised to lose its dominance in international trade and global markets. It isn't, not yet anyway. If anything, through the pandemic, the world became more addicted to the dollar than ever.
Good luck out there!
USD Weekly Jobless Claims
JPY Bank of Japan, Rate Decision
USD Federal Reserve Conference on Dollar's Role
USD Baker Hughes Weekly Rig Count